ETF Focus

Broader Is Better Than Bigger

Megacaps are outperforming, and there are ETFs that focus on the largest companies on the market. But investors are better off sticking with the broader S&P 500 funds for better returns in the long run.

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They're called megacaps for a reason: They're the market's biggest stocks, and the group is suddenly coming back into favor. And guess what? There are several exchange-traded funds ready to help investors focus on this segment of the market. But the solution may already be sitting in your portfolio.

Megacap ETFs limit themselves to stocks with market values well into the tens of billions, all the way up to $416 billion
AppleAAPL -0.8743973196044782%Apple Inc.U.S.: NasdaqUSD121.3
-1.07-0.8743973196044782%
/Date(1438376400350-0500)/
Volume (Delayed 15m)
:
41225145AFTER HOURSUSD121.45
0.150.1236603462489695%
Volume (Delayed 15m)
:
1659808
P/E Ratio
14.006928406466512Market Cap
691740216377.936
Dividend Yield
1.7147568013190437% Rev. per Employee
2409500More quote details and news »AAPLinYour ValueYour ChangeShort position
(ticker: AAPL) and $404 billion
ExxonMobilXOM -4.577761715455969%Exxon Mobil Corp.U.S.: NYSEUSD79.21
-3.8-4.577761715455969%
/Date(1438376464800-0500)/
Volume (Delayed 15m)
:
25527621AFTER HOURSUSD79.303
0.0930.11740941800277743%
Volume (Delayed 15m)
:
705040
P/E Ratio
11.8875031891105Market Cap
331185553735.558
Dividend Yield
3.686403231915162% Rev. per Employee
4063760More quote details and news »XOMinYour ValueYour ChangeShort position
(XOM). The group is getting a lot of attention lately, in large part because the S&P 100, an index of the largest stocks of the S&P 500, is showing signs of life -- and may better hold its value if the market sells off. In February, the
iShares S&P 100 IndexOEF -0.27751094033514784%iShares S&P 100 ETFU.S.: NYSE Arca93.43
-0.26-0.27751094033514784%
/Date(1438376400098-0500)/
Volume (Delayed 15m)
:
483655
P/E Ratio
N/AMarket Cap
N/A
Dividend Yield
2.0402654393663706% Rev. per Employee
N/AMore quote details and news »OEFinYour ValueYour ChangeShort position
Fund (OEF) nudged ahead of the broader 500 benchmark for the first time in five months. Then it nearly matched the broader index in March, which is notable in light of the lackluster performance of its most closely watched member: Apple. S&P Capital IQ's Todd Rosenbluth told clients last week to consider buying an ETF devoted only to the biggest companies. "We like the megacap stocks more than we like the next 400," he says, citing the firm's positive investment ratings on the stocks, among other factors. Morgan Stanley's equity strategists went further, urging bullishness on stocks with a market value of $100 billion or greater, of which there are more than 30.

BIG STOCKS ARE OFTEN HAILED as ports in a storm during volatile markets. But that argument isn't what it's cracked up to be. Megacap ETFs perform much like regular old S&P 500 funds most of the time, bearing correlations as high as 99% in some cases. Plain-vanilla large-stock ETFs already give a lot of heft to the biggest shares: They weight their holdings by market value. The two fund types are similar -- so similar that you don't need a portfolio makeover to benefit.

Just as importantly, think about your time horizon. Megacaps managed to outperform in the rough market of 2011, but the advantage was less than a percentage point. The group didn't offer much protection in 2008, when it fell 35% (the broad index lost 37%). A buy-and-hold strategy in either index has produced positive returns for a decade, but the broad index -- which gives you the faster growth of firms that are merely large, plus the huge stocks -- has enjoyed a modest advantage. The most popular megacap ETF, the iShares S&P 100 mentioned earlier, rose an annualized 7.3%, versus the S&P 500's 8.2%, for the 10 years through February. The slim performance difference is one reason to avoid trying to time the market. Get it wrong and you'll end with smaller returns from both investments.